Are lower interest rates really associated with higher growth? New empirical evidence on the interest rate thesis from 19 countries

Date

2022-07-05

Advisors

Journal Title

Journal ISSN

ISSN

1099-1158

Volume Title

Publisher

Wiley

Type

Article

Peer reviewed

Yes

Abstract

There is a substantial literature on the link between finance and growth. Empirical evidence remains inconclusive and the debate continues. In this paper we adopt the research strategy of focusing on a narrower underlying issue that remains at the core of most macroeconomic theories, namely the interest rate thesis (that lower rates result in higher growth and vice versa). If there are issues with this relationship, this could explain the lack of consensus on the finance-growth nexus. The question is also of practical relevance: Central banks have been focusing on interest rate policy on the assumption that the interest rate thesis holds. There are theoretical reasons why this may not be the case. We conduct an analysis of time-varying dynamic conditional correlation in a GARCH model and of the direction of statistical causation between nominal interest rates and real economic activity in 19 industrialised and emerging economies. We find evidence that interest rates are not negatively correlated with economic growth and do not cause growth. Instead, we find evidence that the relationship may be the opposite in both dimensions. This adds to recent doubts about the prevailing conduct of monetary policy and common theoretical models. Specifically, lowering interest rates may be counter-productive.

Description

open access article Thanks are expressed to the Association for Research on Banking and the Economy (ARBE) for supporting this project. The file attached to this record is the author's final peer reviewed version. The Publisher's final version can be found by following the DOI link.

Keywords

forecasting;, GARCH models;, interest rates and economic activity;, monetary policy;, time-varying dynamic conditional correlation;, disequilibrium;, rationing;, credit;

Citation

Lee, Kang-Soek and Werner, R. A. (2022). Are lower interest rates really associated with higher growth? New empirical evidence on the interest rate thesis from 19 countries. International Journal of Finance and Economics.

Rights

Research Institute

Centre for Research in Accountability, Governance and Sustainability (CRAGS)